What Determines Liquidity?

This is the second part of my miniseries on liquidity.  If you haven't already read What is Liquidity?, then do it now.

So what makes one product very liquid and another illiquid?  There are a number of factors that contribute to the overall liquidity of a thing:

1. Higher fungibility generally leads to higher liquidity.  A perfectly fungible good is identical to and interchangeable with other such goods.  Barrels of oil, $100 dollar bills, and gallons of tap water are usually very fungible.
2. Higher volume of trade of a good leads to higher liquidity.  The gasoline example in my last post speaks to this.  There are rarely large price jumps in the gasoline market.  Longer periods of time between trades often leads to larger price jumps when those trades happen.
3. In order to have the potential for high trading volume, you need high availability of the good.  There are lots of $100 bills and barrels of oil to be traded.  There are very few Picasso paintings.